What is going on with the Bank of Canada's balance sheet?

As Mark Carney steps aside from his role at the Bank of Canada to undertake all manner of easy money in the UK, we thought a reflection on the 'stealth' QE that he has been engaged with, very much under the radar, in the US' neighbor-to-the-north was worthwhile. It seems quietly and with little aplomb, Carney's BoC has grown its balance sheet by over 21% YoY - the most since 2009. If that was not enough to make someone nervous, the quantity of Canadian government bonds on the BoC's balance sheet has grown at a remarkable 46% YoY! All of this has taken place during a time when 'supposedly' the Canadian economy has been reasonably strong and foreign demand for debt high. With Canada's CAD267bn debt due in 2013, we suspect this 'stealth' QE will continue to rise.

The Bank of Canada expanded its balance sheet during the financial crisis as part of the government's strategy to provide short-term liquidity to the financial system - in particular by securities purchased under resale agreements (SPRA). This was wound down as financial markets recovered. But over the past two years, the Bank of Canada's holdings of Government of Canada bonds has gone from around $33b to $56b.

The increase on the liabilities side is in the government's deposits at the Bank of Canada:

This seems odd indeed. And the idea of 'stealth quantitative easing' is almost a contradiction in terms: much of the effectiveness of QE derives from its effect on people's expectations.

I don't remember any announcement about expanding the Bank of Canada's balance sheet, and a quick search through its press releases leaves me none the wiser.

Does anyone know what's going on?

(Thanks to Ben Parsons - @bfaparsons - for bringing this to my attention.)

JP Koning - thanks! Curious what the main driver behind the PLMP is (US Debt Ceiling, CDN housing market, Euro-crisis - really no shortage of potential credit market worries) or maybe its just good policy given what markets have recently been through.

I think there's a better explanation for the flattening of the Canadian yield curve that a BoC operation twist. Rather, the Canadian yield curve has followed the U.S. yield curve and U.S. 10 year treasury yields dropped from over 3% in early 2011 to under 2% in 2012 (largely a reaction to the debt-ceiling fiasco of 2011). It is no surprise that Canadian long-term rates also fell, given the tight coupling of the Canadian and U.S. economies.

Potential funding problems. They've never really gone into the specifics of what might set off the funding problems that they're preparing for. Details on the reasoning behind the program are scarce. I've wondered why the government feels they need to build this stock of liquidity ahead of time since, as they're currently demonstrating, they can turn to the BoC to fund themselves whenever they want.

genauer: it may be the reason some reports ( no time to cite, back to class) have found no significant dutch disease in Canada. I am not entirely convinced but the Boc actions may be the cause, if they follow your reasoning.

I did not mean that you have dutch disease, but that Canada did not get it, because Carney did in time the reasonable thing, implicit peg. But that made Carney basically a copy boy, no wonder that he looked for a different job : - )

And before you feel too bad about it, half a year later, the Swiss were forced to do the same, when the flight money came their way. And then Denmark hat to go to negative rates ...

Some more background:
Since 11/16/2012 Bloomberg took of the US TIPS, the German yearly detailed rate data from their main screens (http://www.bloomberg.com/markets/rates-bonds/government-bonds/us/)
AS JP Koning points out on his very interesting blog, the numbers became meaningless,
just at the time Krugman was starting to ride the dead horse : - )
And they replaced them with the balance sheet numbers of the ECB and BoJ and other stuff.
And the ECB is shrinking, a little bit, so far. The Euro went up so far from 1.27 to 1.36.

Maybe we see some interesting transition. Inflation targeting is not that old. Until the 1970ties M3 control was more en vogue

@ JP Koning
nice, interesting web page. Good to have learned about it. Since you also talk about gasoline futures, this might be interesting for you:

@ All Profs
I can predict German retail gasoline prices, just from Brent and Euro prices, within 1%, since 10 years. There was one deviation last year, when one refinery too much closed, and we got a markup of 7%, until one of them reopened again.

A clean, simple textbook example of Supply & Demand. Most the times reality is a little more complicated, washed out , ....
If somebody is interested in it for some lecture ...., I could provide this with some additonal details, stories.

Now, why I bring this up here and with JP:

Since WTI apparently disconnected also from US gasoline prices somewhat, I believe that this refinery event should also show up with some 1 - 3 % in Canadian & East Coast prices,
probably to be seen only in some West / East Coast differential, with some more intimate knowledge of data sources and local markets .... Expertise I do not have, and do not really want to aquire.

@ Kosta
from the outcome our both argumentations are pretty similar. The question however is,
whodunit? In this case I think it is pretty obvious, that Canada wants to establish the 1.0 peg. In other cases it might not be so easy.

a) time correlation

b) "follow the money" , who pays for the privilege

folks,

a) timing

I thought a little more about this. How you keep such a peg on an even keel. That means, you have to intervene with buying/selling, when the exchange rate loonie/USD veers of "too much", which seems to be 3.0%. In that moment the BoC reduces the bonds it holds.

You can clearly see this January 2012 and end of May 2012, within a precision of 2 weeks I would say. Early November 2011 ?

But since Granger causality, and the Lucas Critique / rational expectations, we know that we have to be a little careful with time lag correlations on such a short scale.

Therefore:

b) remaining rate deltas

That also means, that your bond rates are coming in closer and closer to US rates.
Looking at the short-term part of the yield curve, that would be on the left hand side of plot 3 above, go to http://www.bankofcanada.ca/rates/ for numbers.

With some sign-up bonus of about 1.0% from 1 - 10 years, now even smaller, cross-over roughly with the exchange rate volatility at about 1 year : - )
Your 3-month rates are therefore 0.85% higher, your short term volatility of 0.7% plus some mere 15 basis points for transactions. This is the perfect, quantitative explanation, why your short term rates did not go down so far to the < 0.1%, as for the US or Germany, Switzerland.

All this makes perfect sense, within a time precision of 2 weeks, and rates differences of 0.1% (2 sigma each !).

The Canadian yield curve is made by the BoC to mimick the US, whether that makes sense for the Canadian real estate market or not.

And the big picture:

Just about 5 years ago, it was just Canada and the Bundesbank (the spine behind the ECB) with the 2.0% inflation target, and the Bank of England (I just realize: this is NOT the British Central Bank, BCB, but the BoE !) paying just lip service to it.

Begin of 2012 the Fed joined in formally in the 2.0% target, until 2007 it was more an informal 2.5% target. Abe in Japan has made clear that they will follow the 2.0% as well, whatever silly, old-school talk there was about the independence of their central bank.

So we seem to get in sync, globally, and it gets actually interesting what Carney will do in England

@genauer In my opinion, it's the market which forces the Canadian yield curve to follow the U.S. yield curve. Given that the Canadian and U.S. economies and debt markets are tightly integrated and that their fiscal outlooks are similar, Canadian and U.S. Gov't debt is largely interchangeable. If U.S. yields move, Canadian yields would follow or there would be an arbitrage opportunity. I don't think the BoC is involved.

However, if you compare the Canadian and U.S. 10 Year Gov't Bond Yields (screencap from Bloomberg), you'll note 3 periods when the U.S. Treasury Yield exceeded the Canadian rate" May-Oct 2008, June 2009-May 2010, and Nov 2010-June 2011. I'm not sure what's the cause of the first divergence, but the second and third periods correspond with QEI and QEII by the Fed. Meanwhile, the debt ceiling downgrade caused a synchronous move in both countries' rates, while Operation Twist, which started Sept 2012, did not lead to marked changes in either countries' yields.

This does suggest that a central bank can push its country's gov't bond yields through quantitative easing, but I don't think there's any evidence that the BoC has done so.

Lastly, I am interested in your model of German retail gasoline prices, tell me more. Or should I give you my e-mail?

1. Your dropbox graph here gives me an incentive to try this as well.
2. Doing it here, might get other folks interested as well, just as with you and the gasoline, and not JP, so far
3. It puts some pressure on me, to keep things as simple, generally referenced as possible

What I see so often in discussions, is this split between many people talking purely qualitatelv / ideological, and a few others going very rapidly into specialist talk, like I am afraid to have done here above as well : - )

The german gasoline is pretty simple, no fancy math, just a simple linear equation, but it needs a few remarks, and I will put this together, to see whether that works without explicit excel sheet exchange, which would then be the next option.

The gasoline calc started originally out, 10 years ago, in the US/DE crossover, as some lowest order guess work, I am not trading in this market, and I do not even own a car.
That would be sooo ... rural : - )

I am not active in the canadian market either, but

when I looked at this post yesterday breakfast, I just knew, even before reaching the yield curve, what to look at before the second toast, the loonie exchange rate.

You can find some fascinating points in time in this article but I do not know if I see all of them center to heart. There is some validity but I will take hold opinion until I look into it further. Beneficial article , thanks and we want more! Added to FeedBurner too
There is noticeably a bundle to understand about this. I assume you made particular nice points in capabilities also.

summarizes it up, pretty neatly,
a) much bettter (especially weekly, with data source links) than I could have done (Europe, monthly, at best).
b) They have an even simpler formulae, since taxes are low and stable,
c) American Gasoline seems to go with European Brent oil prices, and not just since 2010
d) there are apparently repeated deviations Brent to New York Harbor Gasoline, and
New York to Gulf coast, which are larger than any 3% (spillover) effect I was looking for. Soo, to believe that some rise between February 2012 and Oktober 2012 to be induced by German refinery / political / bankruptcy shenanigans, you have to believe in : - )

1. European data difficulties
Just let me cry a little bit. Every data analysis always seems to be at least a factor of 10 more difficult here. I discovered I had a seasonal effect of about 1.5% on the data, correcting for that needed getting regular data, I succeeded at least at monthly. Then you need long enough time series, to get this right. Well we changed currency in 2002, changed the area, and with them the data sets with reunification 1990, had 9 changes in gasoline taxes, and 4 in VAT since then.

The formulae is simple, just add raw oil price (WTI was good until 2010, after that Brent), some simple distribution costs, and foremost the taxes in Europe, and you can predict the gasoline price, just with a ton of remarks, with respect to the incoming numbers. I had to derive the gas tax changes from the numbers.